Empower Your Finances:
Cost Segregation Study Guide

A comprehensive guide to unlocking the full potential of cost segregation study to enhance your financial portfolio.

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    What is Cost Segregation?

    Cost Segregation is a tax strategy used by real estate owners to decrease income tax liability by reclassifying certain assets from real property to personal property and accelerating depreciation deductions.

    Who can benefit from
    Cost Segregation Studies?

    Any individual or business that owns commercial or residential real estate can benefit from cost segregation studies, especially those with properties valued at $1,000,000 or more.

    How cost segregation benefits property owners:
    Cost segregation allows property owners to reduce their taxable income by accelerating depreciation deductions, leading to significant tax savings.

    Can I do my own
    Cost Segregation Study?

    • How is a Cost Segregation Study conducted?

      A qualified professional, typically an engineer or accountant, analyzes the construction or acquisition costs of a property to identify assets that can be reclassified for accelerated depreciation.

    • Proceed with Caution

      While it’s technically possible to conduct a cost segregation study on your own, it’s not recommended unless you have expertise in engineering, construction, and tax law.

    • IRS Guidance

      The IRS advises taxpayers to hire unbiased 3rd party qualified professionals with experience in cost segregation to ensure accuracy and compliance with IRS regulations.

    What assets are typically reclassified through cost segregation?

    Items considered personal property rather than structural components are often reclassified through cost segregation. This includes assets such as lighting, carpeting, cabinetry, and landscaping.

    Cost Segregation Example

    • 1

      Imagine a commercial property, such as an office building, is purchased for $2 million. Typically, for tax purposes, the entire property would be depreciated over 39 years using the straight-line method. This means an annual depreciation expense of around $51,282 ($2,000,000 / 39).

    • 2

      However, through a cost segregation study, it’s discovered that certain components of the building, like carpeting, lighting, and landscaping, can be reclassified as personal property or land improvements, which have shorter depreciation lives. Let’s say after the cost segregation study, $500,000 worth of assets are reclassified with a shorter depreciation life of 5 years.

    • 3

      Now, instead of depreciating the entire $2 million over 39 years, you can depreciate $1.5 million (original building cost minus the reclassified assets) over 39 years and $500,000 over 5 years.

    • 4

      This reclassification results in a significant increase in depreciation deductions in the early years of ownership. Instead of the original $51,282 annual depreciation, you might now have around $128,205 of annual depreciation ($1,500,000 / 39 + $500,000 / 5), leading to substantial tax savings in the earlier years of ownership.

    How does depreciation affect the tax basis of an asset?

    Depreciation reduces tax basis it over time. When an asset is purchased, its tax basis is typically its original cost. However, as the asset loses value over time due to wear, tear, or obsolescence, the tax basis is adjusted downward via depreciation to reflect this decrease in value. This reduced tax basis affects the amount of capital gains or losses realized when the asset is sold or disposed of.
    In summary, depreciation decreases the tax basis of an asset, which in turn affects the amount of taxable gain or loss associated with the asset’s sale or disposition.

    Cost Segregation

    Tax Scenario
    • Property Basis $4,200,000
    • Original Depreciation $103,297
    • New Depreciation $1,362,162

    After Tax Cash Savings

    $459,730 Start your claim arrow_outward arrow_outward

    Cost Segregation Tax Scenario

    Manufacturing Industry
    • Property Basis $19,000,000
    • Original Depreciation $3,522,614
    • New Depreciation $6,939,287

    After Tax Cash Savings

    $1,457,250 Start your claim arrow_outward arrow_outward

    Cost Segregation Tax Scenario

    Restaurant Industry
    • Property Basis $1,200,000
    • Original Depreciation $125,997
    • New Depreciation $1,106,057

    After Tax Cash Savings

    $232,272 Start your claim arrow_outward arrow_outward

    • Can a Cost Segregation Study be performed on single-family homes?

      Yes, cost segregation studies can be conducted on single-family rental homes to identify and accelerate depreciation deductions for eligible components such as landscaping, appliances, and interior finishes.

    • Can Cost Segregation Studies be conducted on older properties?

      Yes, cost segregation studies can be performed on both newly constructed properties and existing buildings, regardless of age.

    • Can you do Cost Segregation on residential rental property?

      Yes, you can use cost segregation on residential rental properties. Any type of commercial or residential real estate, including office buildings, warehouses, retail stores, apartment complexes, and even leasehold improvements, can benefit from cost segregation.

    • How do you calculate basis for land only?

      There are multiple options to calculate basis of land owned wit hverying degrees of support by case law and precedent. It’s critical to engage with a qualified cost segregation professional to determine an appropriate basis value.

    • How long to depreciate building improvements?

      Building improvements may fall into a number of depreciable lives depending on factors including case law and tax codes and regulations. In order to accurately allocate building improvements to appropriate class lives consult with a tax professional or accountant familiar with IRS regulations to ensure accurate depreciation of building improvements based on your specific circumstances.

    • How long to depreciate leasehold improvements?

      Qualified Improvement Property replaced several categories of improvements detailed in tax regulations prior to the Tax Cuts and Jobs Act taking effect, including Leasehold Improvements. QIP typically depreciates over 15 years.It’s advisable to consult with a tax professional or accountant familiar with IRS regulations to ensure accurate depreciation of leasehold improvements based on your specific circumstances.

    Are there any risks associated with Cost Segregation Studies?


    While cost segregation is a legitimate tax strategy, property owners should be cautious of aggressive or poorly executed studies that could attract IRS scrutiny. This is why it is essential to work with a trusted provider.

    FAQs

    All you need to know about Cost Segregation

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    Is Cost Segregation a one-time benefit? keyboard_arrow_down keyboard_arrow_up

    No, the benefits of cost segregation can be realized upfront and over the life of the property through increased cash flow and reduced tax liabilities. It can also be done on the acquisition of a property and any major renovations.

    How much does a Cost Segregation Study cost? keyboard_arrow_down keyboard_arrow_up

    The cost of a Cost Segregation Study depends on factors such as the size of the property and the complexity of the analysis but is often outweighed by the tax savings generated.

    What documentation is needed for a cost segregation study? keyboard_arrow_down keyboard_arrow_up

    Documentation such as construction drawings, invoices, and purchase contracts is required to support the cost segregation analysis.